September 2010

Chief Restructuring Officers and Receivers — Lenders’ Solutions to Difficult Situations

Under any scenario, the loss of trust in a customer’s ability or desire to operate its own business effectively can be one of the most difficult challenges facing a lender and can feel like the weight of cement shoes to both the lender and customer alike. But bringing in a trusted, experienced, independent third party as either a CRO or receiver can immediately lift that weight and allow the company to walk straight to whatever the appropriate goal line may be.

In this difficult economy, lenders are continuing to see companies struggling with losses and are faced with the tough decision of how to respond to the deterioration of a company’s balance sheet. Some companies are very aggressive about confronting the issues that need to be addressed to right the ship. However, that is not always the case, and one of the greatest challenges for a lender is the loss of trust in the honesty or competence of a company’s upper management. In such cases, the hiring of a chief restructuring officer (CRO) or appointment of a receiver can mitigate these issues by bringing in an experienced, independent third party to act as a temporary CEO and direct liaison to the lender itself.

Although CROs and receivers differ in their genesis and reporting channels, they both bring benefits to the company, the lender and other creditors and stakeholders. The operational goals and methodology are similar in each case. A strong CRO or receiver will bring with them a good deal of experience, including significant successes dealing with troubled companies and the hard choices such a role can bring. From an operations standpoint, they will have “been through it before.” They will have dealt with lender scrutiny, increased reporting requirements, stringent cash management techniques, vendor threats, potential customer shut downs and everything else that comes with being a “troubled company.”

They also will have experience with successful profit enhancement techniques on various levels, including both sides of the P&L and potential balance sheet restructurings as well as capital or debt raise opportunities. At the same time, an experienced CRO or receiver will be able to make an honest assessment of the company’s potential for continuing operations as they relate to the more immediate goal of eliminating the lender’s debt. If a tough decision has to be made to either sell or liquidate the company, this independent third party will be in a position to do so. This is probably the most important thing a CRO or receiver will do when they are first appointed. That initial assessment is instrumental in developing the game plan going forward and establishing the end game.

From the company’s perspective, a CRO or receiver brings a new credibility in dealing with creditors and other interested parties that may have been lost over time. Most importantly from a lender’s perspective, because of the authority given to either role, those tough decisions can be implemented, if need be, without the emotion that often accompanies internal management teams.

CROs are generally hired by a company at the direction of their lender or board of directors and generally report directly to the board of directors. The CRO route can avoid costly and potentially nasty court battles, but requires cooperation among the concerned parties (i.e., the lender and the company). CROs are also often appointed as part of a bankruptcy process. As a result, the board or owner of the business effectively turns over the day-to-day control of the company and the cash to the CRO. In a bankruptcy, the CRO appointment will require court approval.

Conversely, placing a company into a receivership and appointing a receiver requires a court action, which can be done at the state circuit court level or at the federal court level, and is usually done when the lender does not have the cooperation of the company. The receiver is court-approved and generally reports directly to the court. Any significant disputes with ownership are generally resolved through the court. Typically, in a receivership the receiver is tasked with selling or liquidating the company in an expeditious manner. Rarely is the receivership established with the intent of turning around the company.

In either case, the new manager (either CRO or receiver) will act as the CEO of the company with all the authority that accompanies the position, including hiring and firing of employees, check-signing authority, borrowing money and maintaining a direct line of communication with the lender.

Dispute Resolution

In the appointment of a CRO or receiver, there should be a very clear document outlining the responsibility, authority and channel of communication. There should also be a process for resolving disputes. Because a receiver is always court appointed, the receiver will always have the option of filing a motion with the court to resolve a dispute or to get authority for an action where there is uncertainty if such action is authorized. Of course, the challenge of seeking court approval is that the judge may or may not be very well versed in commercial issues. As a result, there may be uncertainty as to how a judge will decide on an issue.

Conversely, in an out-of-court CRO situation, there is no third party for dispute resolution. Even if the CRO may have the authority to take strong actions; in order to limit their exposure from a claim from the owner/guarantor, the CRO will try to develop a solution that is satisfactory to all parties. As a result, there is typically a negotiated resolution between the secured lender, the owner/guarantor and the CRO.

In bankruptcy cases, the judges tend to be very savvy on commercial issues, and the CRO will readily file motions with the court and have a reasonably high level of predictability for taking the appropriate actions in a case.

So while a bankruptcy process will most likely be the most expensive way to go, there is a high degree of predictability for the CRO due to the involvement of other professionals who know the process and can help move a case along. A receivership is less expensive but has less predictability. And, of course, an out-of-court CRO situation is the least expensive but has a lesser degree of predictability.

Existing Management Team

One of the issues that normally gets addressed at the beginning of an assignment is the removal of the existing management team. This can be done by either a CRO or receiver. Removal of existing management, however, is not automatic or a requirement in either scenario. If existing management is left in place and supplemented by a CRO or receiver, the CRO/receiver will have ultimate decision-making authority.

Once a CRO/receiver is named, it is that person’s responsibility to determine the best course of action to maximize the lender’s repayment and to develop a plan to accomplish that goal. The plan may range from an operational turnaround, to liquidation or sale of the company. In any case, a budget will be created to support the plan with milestones to monitor progress. Milestones should be detailed enough to ensure that the timetable is being met on a weekly or monthly basis, and direct and continual communication expectations with the lender should be established. Sample milestones may include sales targets, EBITDA results, paying down debt balance or working capital balances. Often the company will have to operate with cash collateral with no opportunity for advances from the secured lender.

If the best course of action is deemed a sale, the CRO/receiver’s role will be to ensure the enterprise value is maintained or increased during the time needed to market and sell the company. Again, there may be milestones to meet as well. For instance milestones can be hiring an investment banker, completing a profile, selling memorandum, going to market, signing a letter of intent and signing a purchase agreement.

Liquidating a company is usually the last resort, though it may be the only option remaining. In this case, the budget and cash-flow forecast will assist in determining the resources and timing required to liquidate the business along with steps to achieve a successful wind-down. There can be milestones for this process as well such as obtaining quotes from an auctioneer, hiring an auctioneer, completing the existing book of business, notifying major customers, etc.

Under any scenario, the loss of trust in a customer’s ability or desire to operate its own business effectively can be one of the most difficult challenges facing a lender and can feel like the weight of cement shoes to both the lender and customer alike. But bringing in a trusted, experienced, independent third party as either a CRO or receiver can immediately lift that weight and allow the company to walk straight to whatever the appropriate goal line may be.

Scott A. Eisenberg is a managing partner and co-founder of Amherst Partners. He has over 25 years of experience structuring and negotiating transactions and advising companies on financial matters. His experience includes M&A transactions, restructuring and turnaround engagements, and a wide variety of management advisory services. He has acted as CRO, court-appointed receiver, and trustee for clients in a wide range of industries. Eisenberg has worked on over 75 investment banking assignments and has advised more than 200 manufacturing, service, financial services and technology companies. Many of the completed transactions involved publicly traded client companies. Before founding Amherst Partners, Eisenberg was a principal in a subordinated debt fund that invested primarily in manufacturing and technology businesses. Prior to that, he was a manager in the National Corporate Finance Group of Deloitte & Touche where he provided M&A advisory services to middle-market companies. He began his career as an accountant with Deloitte & Touche, providing accounting and audit services and taught national firm training seminars. Eisenberg is active in many organizations, having served as: president of the Detroit Chapter of the ACG and as an international board member; board member and president elect and officer of the Detroit Chapter of the TMA; president and board member of the Detroit Chapter of the Young Entrepreneur’s Organization; president of the Young Adult Division of the Jewish Federation of Metropolitan Detroit and member of the Federation’s Board of Governors; president of the American-Israel Chamber of Commerce of Michigan; chairman of the Automotive Supplier Committee of the Michigan Association of CPAs; and president of the Southeastern Michigan Venture Group. Eisenberg earned his Bachelor’s degree in accounting from the University of Illinois, his M.B.A. in finance from Indiana University and is a CPA. He is a recipient of Crain’s Detroit Business list of “40 under 40” and a finalist for the Ernst & Young Entrepreneur of the Year award in 2007 and 2008.

Karen A. Davis, CPA, is a director at Amherst Partners. She specializes in providing turnaround and restructuring services to middle-market clients. Her experience includes viability analysis of troubled companies, cash management and budgeting, implementing profit enhancement initiatives, lender negotiations and debt restructuring. Davis has served as CRO in turnaround and sale engagements. She has more than 20 years of financial and operational experience in a wide range of industries including construction, professional and business services, and health care. Prior to Amherst Partners, she was the CFO at Performance Site Co., where she was a member of a strategic team charged with growing the company by acquisition and expanding operations of related companies. Prior to PCS, Davis was treasurer and controller of a geotechnical engineering and materials testing firm, and was responsible for leading a successful turnaround and management buyout requiring the restructuring of existing debt and infusion of new capital. Other previous experience includes positions with Banc One Capital Markets and Deloitte & Touche. Ms. Davis received her Bachelor’s degree from The Ohio State University and holds an active CPA license in the state of Ohio. She is a member of the TMA, ACG, Tristate Association for Corporate Renewal, American Bankruptcy Institute, Ohio Society of CPAs and Construction Financial Management Association.